Russia cuts off gas to Ukraine as Kiev orders border secured

KIEV/GORKI Russia | By Natalia Zinets and Vladimir Soldatkin

KIEV/GORKI Russia (Reuters) - Russia cut off gas to Ukraine on Monday in a dispute over unpaid bills that could disrupt supplies to the rest of Europe and set back hopes for peace between the former Soviet neighbours.

After the weekend loss of 49 troops when pro-Russian rebels shot down a military transport plane, Ukraine's new president ordered his forces to retake full control of their border with Russia - saying this could then pave the way for negotiations.

Calling time on weeks of wrangling in talks over natural gas supplies, Russia said Kiev had missed a Monday morning deadline to repay $1.95 billion owed for previous purchases and announced Ukraine would now only get gas it has paid for in advance.

At the same time, Moscow insisted that Ukraine must let Russian gas flow across the country through international pipelines to Russia's clients in the European Union - noting a temptation for Kiev to tap into those supplies in transit.

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Kiev and Moscow blamed each other for the failure to agree on the price of future gas deliveries and refused to abandon well established positions: Russia offering a discount and Ukraine rejecting that as a tool for political manipulation.

The talks are bound up with the worst crisis between Russia and Ukraine since the Soviet Union collapsed - a crisis that has brought Western sanctions on Moscow, the Russian annexation of Crimea and Cold War-style sabre-rattling along the borders.

Western-backed Ukrainian President Petro Poroshenko, elected last month to replace the Kremlin-friendly leader ousted in February, said on Monday he wanted troops to regain full control of the border with Russia this week. After that, there could be a ceasefire and efforts to come up with a peace plan.

"The ceasefire will be declared as soon as the border is secure," Poroshenko told his security chiefs. "Declaring a ceasefire while the border is open would be irresponsible."

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His remarks underlined his concern that Russia is supporting the rebels by sending in tanks, guns and men. Hopes of a lowering of tension had already been dented before the gas talks failed by the downing of the plane near the eastern frontier, an attack on Russia's embassy in Kiev and new accusations from NATO that Russia is arming the Ukrainian rebels.

All that sent Russian financial markets lower on Monday and helped oil and gas prices climb in Europe that were already firm on fears of supply disruption due to violence in Iraq.

"Thanks to the unconstructive position of the Ukrainian government, today a prepayment system was introduced," Alexei Miller, the chief executive of Russian state exporter Gazprom, told Prime Minister Dmitry Medvedev during a meeting at a government residence at Gorki, outside Moscow.

He said Ukraine had "adopted a position that can only be called blackmail", adding: "They wanted an ultra-low price."

At a news conference, he said it would no longer be enough for Kiev to pay part of its debt for supply to resume. That would now happen only once Ukraine paid off all the almost $4.5 billion and paid up-front for a month's deliveries, he said.

"But it is not about gas. It is a general Russian plan to destroy Ukraine," Yatseniuk said. "It is yet another step against the Ukrainian state and against Ukrainian independence."

Medvedev said some of Kiev's ruling elite were not up to the job, echoing outrage over Ukraine's acting foreign minister using a coarse anatomical expression to describe President Vladimir Putin during the weekend embassy protest in Kiev.

"You can see this in many situations; from the paranoid behaviour of the acting foreign minister at the Russian embassy in Kiev to the failure of the prime minister of Ukraine to agree on gas on the basis of a discounted price," he said on Facebook.

SUPPLIES IN STORAGE

A source at Gazprom said supplies to Ukraine had been reduced as soon as the deadline passed and Ukrainian Energy Minister Yuri Prodan said the country was receiving no gas.

Ukraine has at least 12 billion cubic metres of gas in storage, enough to meet its and the EU's needs over the summer.

A long-term reduction of supply could hit EU consumers, which get about a third of their gas needs from Russia, around half of it through pipelines that cross Ukraine. Earlier price disputes led to "gas wars" in 2006 and 2009, and Russian accusations Ukraine stole gas destined for the rest of Europe.

Gazprom's Miller said Russia would provide Ukraine with the volumes necessary to cover EU demand, but implied that Kiev may take some of those supplies for their own use - a potential shortfall Moscow could not be expected to cover.

"Regarding transit risks, they exist and they are not insignificant," Miller said of supplies reaching the EU.

The bloc's energy commissioner, Guenther Oettinger, who has been brokering the gas talks, said in Vienna that the EU should top up its storage or could face problems in winter. He urged Russia to reconsider a compromise and held out the prospect of new talks before officials break for summer.

But with both sides filing lawsuits at the Stockholm international commercial arbitration court to try to recover billions each says they are owed, any quick agreement seems a way off.

SHARES FALL

Russian shares fell on the talks' collapse. The dollar-denominated RTS index lost 1.25 percent and the rouble-based MICEX 0.48 percent. Prices for Brent crude were up about 50 cents near $113 a barrel.

Western countries saw the talks as a gauge of Putin's willingness to compromise and had been looking for signs that he was trying to avert the threat of the West adding to sanctions on Moscow imposed after Russia seized Crimea three months ago.

That move came after Moscow-leaning Ukrainian president Viktor Yanukovich was ousted by street protests in February and pro-Western leaders took over power in Kiev. Russia denounced that as a Western-backed fascist coup.

The gas talks broke down with the sides unable to reach agreement on price and on changes to a 2009 contract that had locked Ukraine into paying the highest price in Europe.

Kiev wants to pay $268.50 per 1,000 cubic metres of gas - the price it had been offered when Yanukovich was in power. But, in a compromise last week, it said it would agree to pay $326 for an interim period until a lasting deal was reached.

Moscow had sought to keep the price at the 2009 contract level of $485 per 1,000 cubic metres, but had offered to waive an export duty, bringing down prices by about a fifth to $385, broadly in line with what Russia charges other European states.

Kiev says that waiving the duty rather than agreeing a new contract price means Moscow could use the threat of cancelling the waiver to keep Ukraine under its thumb.

Oettinger said Moscow had declined a compromise under which Kiev would pay $1 billion immediately and then make monthly repayments to Gazprom. It would also pay $385 per 1,000 cubic metres in winter and about $300 in the summer.

The U.S. State Department said the EU had presented a "fair and reasonable" compromise to resolve the gas dispute, and talks should be resumed.